The costs of favoritism: Do international politics affect World Bank project quality?

1. The costs of favoritism: Do international politics affect World Bank project quality? Axel Dreher (Georg-August University Göttingen, KOF, CESifo) James R. Vreeland (Yale University) Eric Werker (Harvard Business School) IPES 2008, November 14/15

2. Outline • World Bank (WB) lending for political reasons? • The effect of favouritism on WB project quality • Data, Method, and Results • Yet to be done… • Conclusions

3. Do political considerations play a part in who the Bank lends to? • “It is true that during the Cold War years aid was politically motivated. Now however aid is being delivered to countries most in need, and to those who show they are determined to use it well.” (World Bank, FAQ, www.worldbank.org) • Frey and Schneider (JDE 1986), Andersen, Hansen and Markussen (JDS 2006), Dreher, Sturm, Vreeland (JDE 2009)

4. Proxies for political proximity • US grants, military aid, voting in line with the US in the UN General Assembly, former colonial status • But: highly correlated over time; could equally well affect project evaluation • Other variables might determine political proximity and project quality alike • Temporary membership in United Nations Security Council (UNSC) • 5 permanent members with veto power • 10 elected members (2 year term limits) • Election to the UNSC largely idiosyncratic (Dreher and Vreeland 2007) • Election to the UNSC is not related to variables that also affect the World Bank’s decision to lend • Kuziemko and Werker, JPE (2006) • “We find that a country’s US aid increases by 54 percent and its UN aid by 7 percent when it rotates onto the council.“ • Countries which are temporary UNSC members at project initiation are no members at project evaluation  UNSC membership as our preferred proxy

5. avg=1.29 avg=2.13 avg=1.29 avg=2.06 avg=2.19 avg=1.28 avg=2.15 avg=1.30 avg=2.10 std=1.95 std=2.93 std=1.95 std=2.75 std=3.11 std=1.96 std=2.96 std=1.93 std=2.92 n=5333 n=357 n=5333 n=176 n=181 n=2638 n=183 n=2695 n=174 Non- Member Non- 1st.year 2nd year Non- Member Non- Member member member member member member member Total sample Over time During the cold war After the cold war World Bank projects and UNSC membership 2.5 2.0 1.5 1.0 0.5 0.0 Source: Dreher, Sturm, Vreeland (JDE, 2009)

6. Data on World Bank project quality • World Bank’s Operations Evaluation Department, as used in Kilby (JDE 2000): • Discrete performance measure generated by World Bank project managers and evaluators • In some cases, expected economic rate of return is calculated • 2605 projects from 116 countries • First (last) project approved in 1958 (1988) • First (last) project ends in 1963 (1991) • Average (longest) project takes 6 (22) years. • 77 percent of the projects are rated as satisfactory (33 as unsatisfactory) • In 38 percent of the country years, at least one project is rated as unsatisfactory

7. UNSC membership and the existence of unsatisfactory projects Significant at 1 percent level

8. Selection of control variables • We follow Dollar and Svensson (EJ 2000) • time in office and squared term, ethnic fractionalization and squared term, instability, democracy • Additional variables • GDP per capita, population, inequality, terms of trade shocks, inflation, budget surplus, project size, number of projects in a particular country and year

9. Unsatisfactory projects, Probit, 1958-1988

10. Tests for robustness and yet to be done… • Different dependent variables: • Share of satisfactory projects • Mean rate of return • Method of estimation: Country fixed effects/ conditional fixed effects Logit • More control variables: corruption, geography • Account for selection in WB projects • Project level analysis

11. Conclusions • Previous studies showed that World Bank gives projects for political reasons • These political favors come at a cost: • temporary UNSC membership increases the probability that unsatisfactory projects exist by ten percentage points